The kingdom plans to install an additional 35GW over the next 10 years

Source: SEC

As Saudi Arabia’s population doubles over the next decade, demand for electricity is expected to soar, growing at 7-8 per cent a year.

At the same time, some 5GW of existing generation capacity needs to be decommissioned by 2015 and a reserve margin cushion of 10 per cent capacity has to be maintained to ensure networks can cope with spikes in demand during the summer months.

They have to build generation capacity …and they have nowhere else to turn other than using crude products

Samuel Ciszuk, IHS Global Insight

To meet these challenges, Saudi Arabia is undertaking a large-scale expansion of its generating capacity. The kingdom plans to install an additional 35GW over the next 10 years to increase its production capacity from 45GW in 2009 to 80GW by 2020.

A large chunk of this additional capacity is being delivered through the country’s independent power plant (IPP) programme. Private developers will design, build, operate and finance the power plants for a fixed concession period, typically 20 years.

Privatisation plan for Saudi Arabia’s electricity sector

The programme is Saudi Arabia’s first step towards the privatisation of its electricity sector, and has proved popular with both international power developers and commercial banks lending to the projects.

The IPPs are viewed as attractive investments as many of the risks often associated with the financing of a power plant are taken on by the client, the Saudi Electricity Company (SEC). Under its IPP programme, SEC supplies the fuel for the power station and pays a fixed price to purchase the electricity generated by the facility.

Saudi IPPs under construction or planned
  Capacity (MW) Fuel type Start-up date
Rabigh 1,204 Oil 2013
PP11 1,730 Gas 2014
Qurayyah 1,963 Gas 2015
Qurayyah 2 1,800 tbc 2015
Dheba 1,600 tbc 2017
IPP=Independent power plant; tbc=To be confirmed. Source: MEED

Not only does SEC take on considerable market risk that in other countries might be expected to be shared by the project company, but as a government-owned entity, SEC essentially comes with a sovereign credit rating. This means Saudi IPPs are seen as strong, low-risk investments to which international commercial banks are willing to lend.

There are five projects worth a combined $20bn in the current batch of IPPs being executed by the SEC. Two of these – Rabigh and PP11 – have closed financing and are under construction. The Qurayyah IPP is in the final bidding stage, with its second phase due to be tendered by the end of the year.

A decision has yet to be made on the type of fuel that will be used to fire Qurayyah 2 and another scheme planned for Dheba. It is a decision that will be made by the government rather than SEC.

“All power plants’ fuel is decided by the strategy of the government, which usually means a decision made between the Ministry of Petroleum and Saudi Aramco,” says Amer al-Swaha, head of the IPP programme at SEC.

“As a wish list, our top priority is gas, then Arab light [crude oil], followed by Arab heavy and heavy fuel oil. If we can get gas for our projects, then we use gas.”

Al-Swaha says gas is SEC’s fuel of choice because of its greater efficiency in generating power when compared to oil. It is also less costly to build gas-fired plants and the fuel itself is cheaper to procure.

“With gas you can use combined cycle and have an efficiency of 50 per cent, plus it is friendlier to the environment,” he says. “When we used oil in the west [Rabigh], we had to install equipment such as flue gas desulphurisation [a form of emissions control] and this costs a lot of money.”

The use of oil as fuel also comes with an additional ‘replacement cost’ as oil is burnt to make electricity rather than being exported.

Around 60 per cent of the power generated in Saudi Arabia is created using liquid fuels, including heavy and light crude oil, heavy fuel oil and diesel. The remaining 40 per cent comes from gas-fired plants.

Fuel type can be determined by location

For the Rabigh project, the decision to use fuel oil was clearly based on its location. There are little in the way of gas reserves or pipeline networks on the western coast of the kingdom. It is also sited next to the PetroRabigh refinery, making oil the obvious choice.

For the PP11 project in Riyadh, geography again played an important role. With its location as being near the country’s capital, access to gas networks was not an issue.

However, it is not purely geography that dictates the type of fuel an IPP will use. While using oil is clearly an expensive, and in terms of export potential, a wasteful fuel choice for power generation, Saudi Arabia’s gas supplies are stretched. There is also competing demand from the country’s petrochemicals sector for the limited gas supplies.

“The government’s determination on best use of fuel is always balanced between where value can be found between using it within the kingdom or exporting,” says Nigel Thompson, a Dubai-based partner for international law firm Baker Botts. The firm advised SEC on the financing of Rabigh and PP11, and is currently working on the Qurayyah project.

While electricity cannot compete with oil on the exports front, the petrochemicals sector, which consumes large quantities of gas, can.

Riyadh has identified several industrial sectors that it wants to focus on in order to diversify its economy, most notably petrochemicals and plastics production. One of Saudi Arabia’s key strategies to make it a global player is providing cheap natural gas for use as a feedstock to its petrochemicals producers.

Energy major Saudi Aramco sells ethane to petrochemicals producers at about $0.75 a million BTU, while rival producers in the US are charged $3.50-4 a million BTU.

The focus on exports, perhaps more so than domestic power generation, can be seen as the major drive behind Saudi Aramco’s gas expansion programme.

Gas production in Saudi Arabia

The kingdom has about 275 trillion cubic feet (cf) of gas, placing it fourth on the list of countries with the world’s largest gas reserves, behind Russia, Iran and Qatar, according to the US Energy Information Administration.

About 57 per cent of Saudi Arabia’s gas is associated and tied to oil production. So if oil demand and output fall, the amount of gas available is restricted.

Of the remaining 100 trillion cf of non-associated gas, some 75 per cent has high sulphur content or is in tight formation, leaving just 25 trillion cf that is easy to recover.

Aramco has been charged with increasing domestic gas reserves by about 50 trillion cf by 2016, with an emphasis on finding new non-associated fields. However, until those reserves can be proven, Aramco will struggle to keep up with growing demand from industrial schemes. As a result, many industrial projects have been delayed. Currently, about $28bn of industrial and petrochemicals projects are on hold in Saudi Arabia, according to regional projects tracker MEED Projects. Of this, $20.5bn-worth of projects cite issues with gas feedstock as the reason for the delay.

Due to the scale of electricity demand growth in the kingdom, utilities cannot wait for new reserves to be proven and developed. The power generating infrastructure has be developed now.

As a result, new power plants will often need to operate with gas quantities already allocated to existing SEC plants. And if there is insufficient availability, then the new plants will need to be oil-fired.

The run-up to the tendering of the Qurayyah IPP highlighted the concerns surrounding gas supply in the kingdom. When it was first announced, the project was intended to be an oil-fired facility.

However, subsequent investigations by SEC found that gas allocations of older single-cycle plants could be switched to the Qurayyah IPP. These plants will either be decommissioned or only operate at peak times, when they can be run on diesel or fuel oil. This means the gas can be redirected to more efficient modern combined-cycle gas turbine plants.

The juggling of gas supplies and burning of expensive oil is set to be a constant theme for the Saudi power market over the near and medium term, says Samuel Ciszuk, senior energy analyst for the Middle East and North Africa at London-based consultancy IHS Global Insight. “Right now [the Saudi government] is in a bind. They have to build generation capacity because of demand growth and they have nowhere else to turn other than using crude products for increasing amounts of generation. In the longer term, this is why they need to go nuclear.”

In April 2010, Riyadh announced the establishment of King Abdullah City for Atomic and Renewable Energy to lead research into and the development of alternative energy in the kingdom. However, this is a long-term move, with nuclear power and renewable energy unlikely to play a significant role in addressing increased electricity demand between now and 2020.

Oil benefits in Saudi Arabia

Although oil is an expensive and inefficient option for meeting power needs, it does have certain economic advantages that might make it favourable to the Saudi government when gas supplies are stretched, says Thompson.

“[Oil] widens up the field of expertise you have access to as a client,” he says.

“With heavy fuel oil power plants, you can bring in expertise from different places to those that you might bring in to build gas plants.”

Qurayyah 2 will be the next plant in the IPP programme to be tendered and its fuel has yet to be determined. While the government weighs up the options about the type of fuel it should have, Al-Swaha is in no doubt what he wants.

“For Qurayyah 2, we are working on the hope we get gas,” he says.

“The main thing is that we won’t go to the market without finalising [the type of fuel]. The request for proposals will be out within the next six months.”